Question

In Year 1, Company X began to receive complaints from physicians that patients were experiencing unexpected side effects from the company’s sleep apnea drug. The company took the drug off the market near the end of Year 1. During Year 2, the company was sued by1,000 customers who had had a severe allergic reaction to the company’s drug and required hospitalization. At the end of Year 2, the company’s attorneys estimated a 60 percent chance the company would need to make payments in the range of $1,000 to $5,000 to settle each claim, with all amounts in that range being equally likely. At the end of Year 3, while none of the cases had been resolved, the company’s attorneys now estimated an 80 percent probability the company would be required to make payments in the range of $2,000 to $7,000 to settle each claim. In Year 4, 400 claims were settled at a total cost of $1,2 million. Based on this experience, the company believes 30 percent of the remaining cases will be settled for $3,000 each, 50 percent will be settled for $5,000, and 20 percent will be settled for $10,000.

Required: If IFRS, were followed, prepare journal entries for Years 1-4 related to this litigation. If U.S.GAAP were followed, would the journal entries be any different?

Answer 1

Year 1 -- No Journal Entry. Contingent Liability to be disclosed in notes to Financial Statements.

Journal for recording Coningent Liability

Year	Particulars	Debit	Credit
Year 2	Legal Suit Expenses Legal Suit Liability ( Being Contingent liability recorded and estimated on prudent basis)	5000000	5000000
Year 3	Legal Suit Expenses Legal Suit Liability ( Being additional Contingent liability recorded and estimated on prudent basis)	2000000	2000000
Year 4	Legal Suit Liability Cash ( Being 400 claims settled)	1200000	1200000
	Legal Suit Liability Excess Provision for legal suit expenses (Being excess provision for continengent liability cancelled off)	4910000	4910000

Partb) Same treatment under IFRS and GAAP